Question

True false:

1. Under the CAPM, investors require a rate of return that is proportional to the volatility of each asset.  

2. The simple average of all equity betas in a market must equal exactly 1, by construction.

3. All assets and portfolios that plot on the Capital Market Line have returns that are perfectly positively correlated with the market portfolio.

4. A firm that operates in rural areas, and is more exposed to bush fire risk, will have a higher beta than an otherwise identical firm that operates in a major city.

5. Under the CAPM, no asset or portfolio has a higher Sharpe ratio than the market portfolio.

6. Under the CAPM, it is possible for an asset to have a negative beta, but a positive expected return.

7. Under the CAPM, it is possible for the market portfolio to include a short position in one or more assets.

8. Under the CAPM, risk-averse investors will try to avoid volatile stocks and invest only in stocks with low volatility.

9. Under the CAPM, investors with high wealth and low risk aversion have more impact on stock prices than do investors with low wealth and high risk aversion.

10. Under the CAPM, the only way an individual stock could plot on the CML is if it happens to have exactly the same expected return and standard deviation as the market portfolio.

Answer 1

1. Under the CAPM, investors require a rate of return that is proportional to the volatility of each asset.

True - As per CAPM, Required Return = Risk Free Return + Beta*(Market Risk Premium)

2. The simple average of all equity betas in a market must equal exactly 1, by construction.

False - The weighted average must be equal to 1

3. All assets and portfolios that plot on the Capital Market Line have returns that are perfectly positively correlated with the market portfolio.

True, The returns are perfectly positively correlated with market portfolio.

4. A firm that operates in rural areas, and is more exposed to bush fire risk, will have a higher beta than an otherwise identical firm that operates in a major city.

True, Higher the systematic risk higher will be the beta